Chapter 9. The Doctrine of Freedom of Contract

Thou shalt not take the name of the Lord thy God
in vain; for the Lord will not hold him guiltless that taketh His name in
vain. — Exodus 20

But governments do not limit their concern with
contracts to a simple enforcement. They take upon themselves to determine
what contracts are fit to be enforced…There are promises by which it is
not for the public good that persons should have the power of binding
themselves. — J. S. Mill[1]

Few who consider dispassionately the facts of
social history will be disposed to deny that the exploitation of the weak
by the powerful, organised for purposes of economic gain, buttressed by
imposing systems of law, and screened by decorous draperies of virtuous
sentiment and resounding rhetoric, has been a permanent feature in the
life of most communities that the world has yet seen. — R. H.
Tawney[2]

Introduction

Contract law is one of the fundamental institutions that underpin
the market system. It is not often understood that the religious and
governmental regulations that underpin agreements have a very long
history. Therefore, it is not often realised that the above quotation from
the Ten Commandments refers not to the uttering of obscenities, but to the
process of oath taking in ancient Israel, which—among other things—helped
enforce contractual arrangements. A rigid view of contract law in the form
of the doctrine of freedom of contract is a central element in economic
fundamentalist rhetoric. It is desirable, therefore, for critics of
economic fundamentalism to equip themselves with some understanding of the
origins of this doctrine and how it emerged and then declined as part of
the nineteenth-century view of social theory and
laissez-faire economic doctrine. Our account now
turns to an examination of the emergence of classical contract law towards
the end of the nineteenth century in England and the United States. It
will be shown that the doctrine has its origins in the breakdown of
medieval ideas regulating social and economic life and the emergence of
social contract ideas as a basis for explaining social order and for
justifying the property rights of the elite. Natural law, the natural
lawyers and the gradual secularising of that tradition also heavily
influenced the growth of the doctrine. Consequently, my account parallels
the earlier account of the rise of social contract ideas. As we saw then,
many philosophers and economists used the concept of a contract as their
fundamental explanatory device in explaining or justifying social order.
The doctrine of freedom of contract is therefore central to the conceptual
framework within which economists and, in particular, economic
fundamentalists operate.

The development of common law and the associated growth of contract
law in England and the United States parallel the rise of capitalist
society and its adherence to social-contract theory.[3] That law was influenced heavily by the Enlightenment and by
its natural-law outlook while English judgements and theorists continued
to exercise considerable influence in the United States after the War of
Independence.[4]

Chapter 4 pointed to the gradual breakdown in the medieval idea that
people owed a wide range of social and religious duties. In that medieval
world, relationships were largely customary, but law backed that custom.
Indeed, law, custom and morality are not distinguished clearly. In
particular, while there were some elements of bargaining and free choice
in economic life, that freedom was constrained severely by ethical ideas,
which ensured that economic relationships occurred in ways that were
thought to be fair and just. The notions of a just price and a just wage
were central to medieval economic thought.[5] Custom and law imposed a duty on those exercising authority
to enforce those just prices and wages. Any bargain in which one party
obviously gained more advantage than the other and used his power to the
full was regarded as usurious. Similarly, no one doubted that everybody
was entitled to subsistence. As a result, there were repeated attempts to
impose price controls on staple items as well as to regulate wages. Until
the end of the fifteenth century, all lending at interest was, in theory,
prohibited. A sale in which there was a defect in either quantity or
quality was sinful and was void. A seller was obliged to reveal a secret
flaw in the product being sold. In this world, the doctrine of
caveat emptor—the companion to the doctrine of
freedom of contract—had no standing, while the possession of property
involved temporary custodianship and carried duties as well as
rights.[6]

The system of justice included the King’s tribunals and local and
special courts in which administrative and judicial functions were
blended. These functions included a wide range of regulations controlling
trade and ensuring an open market, a fair price and good quality. These
arrangements became even more formalised as market towns succeeded fairs.
As ecclesiastical authority broke down, the secular realm—particularly the
Crown—took a larger and larger role in maintaining these fair-trading
regulations. By the end of the sixteenth century, the system of justice
was shared between the common law, the courts of custom, the liberties of
the towns and special tribunals. Importantly, customary law had not yet
emerged as the common law.

The above attitudes towards the regulation of economic activities
were associated with a view of the law as a body of essentially fixed
doctrine, derived from divine and natural law, and to be applied in order
to achieve a fair result in particular cases.[7] As a consequence, judges in England, and later in the
American states, conceived of their role as merely discovering and
applying pre-existing legal rules. This brought with it a strict
conception of precedent in which judicial innovation was not permissible.
At the same time, statute was conceived of largely as an expression of
custom.

With the gradual breakdown of these ideas, the lords and freeholders
came to question to some extent the legitimacy and privileges of the Crown
and of government more generally. They also began to see themselves as the
owners of the land they occupied, while at the same time ideas about the
ownership of property become more absolute. Similarly, ideas about freedom
also became more absolute. The breakdown of central government during the
Civil Wars (1642–51) also disorganised the system of market control, which
had come to depend on national authority.[8] That authority to regulate economic life never completely
recovered even though the supervision of an expanding trade and commerce
was maintained with decreasing effectiveness until well past the
Restoration (in 1660).

As recounted in Chapter 4, these changes made it easier for the
propertied elite to see civil society as based on a social contract,
rather than socially defined moral obligations backed by divine law.
Unlike the traditional natural law, natural-rights theories were based on
conflict between the individual and the State. As the basis of legal
obligation was redefined in terms of popular sovereignty and contract, the
natural-law foundations of common-law rules began to
disintegrate.[9] By the eighteenth century, political theorists and men more
generally thought of their relationships with each other, and the State,
in contractual terms in which a key role was assigned to individual
choice.

With this came a growing perception that judges did not merely
discover law, they made it. Therefore, judges began to gradually feel free
to disregard earlier precedent and to make law consistent with the
prevailing contractual ideology. There developed, as a result, a close
connection between liberal economic ideas and the rule of law as it came
to be understood after 1688. In this regard, the idea that the law should
be regular, certain and subject to interpretation by independent judges is
not normatively neutral, but has a powerful value content—valuing
individual freedom and free choice above some other values such as equity.
Nor is the rule of law normatively neutral because by promoting procedural
justice it enables the shrewd, the calculating and the wealthy to
manipulate its forms to their advantage.[10]

English common law gained its supremacy over the prerogatives of the
Crown largely through the efforts of Sir Edward Coke (1552–1634).[11] Coke was opposed to what he saw as the usurping of power by
the King, and appealed to the common law as a traditional barrier to the
interference by government with the economic and other freedoms of the
individual.[12] In the process, Coke distorted and misinterpreted the past
common-law tradition to make it seem more strongly favourable to economic
liberalism than it was in fact. In particular, the doctrine of
caveat emptor had no ancient ancestry. It was Coke
who helped establish it by setting it down in his treatises on
law.[13] Lord Mansfield, Chief Justice of the King’s Bench from 1756
to 1788, was another economic liberal, who did much to consolidate and
develop commercial law. During his tenure, the overthrow of the
traditional role of the courts in regulating the equity of agreements
began in earnest.

Mansfield’s conception of a general jurisdiction of commercial
law—which emphasised its claimed universal character and its supposed
correspondence with natural reason—had an overwhelming influence in the
United States. This involved a new stress on the functionality and
rationality of the legal rules free from every local peculiarity, and
brought with it a growing distinction between morality and the law.
Horwitz,[14] in particular, notes the influence of a new utilitarianism
in nineteenth-century US law in general and in the erosion of concern for
the fairness of contracts in that country. What was involved was a change
in the moral conception underlying contract in which the express contract
became paramount. Horwitz also notes the influence of a new alliance
between the mercantile classes and the legal profession—firstly in trying
to subvert the influence of equity and of juries on commercial cases, and
ultimately in moulding legal doctrine to accommodate commercial interests.
This growth in commercial law also reflected the increasing complexity of
economic transactions.

While there had never been an overt principle of fairness in the
common law of contracts, lawyers of the seventeenth and eighteenth
centuries were not indifferent to such concerns. There were signs of a
broad principle of good faith emerging in the common law of contracts in
the late eighteenth century—a development that ultimately came to naught.
This could have been because jury control over damages rendered it
unnecessary to strive for such a substantive doctrine. For Atiyah, it was
the jury that bridged the gap between morality and the law.[15] In any event, grossly unfair contracts were liable to be
upset in chancery, and it was in chancery that the greater part of
contract litigation took place.

Chancery was the second of two different traditions in English legal
practice. Equity consisted originally of a body of rules and procedures
that grew up separately from the common law and were administered in
different courts. From the time of Edward II or earlier, the chancellor
and his officials—later the Court of Chancery—as ‘keeper of the King’s
conscience’, could give equitable relief where the common-law courts might
provide no remedy. The chancellors until the appointment of Sir Thomas
Moore in 1529 were churchmen. With the rationalisation of legal practice,
the common law and equity are now merged and administered by a single set
of courts almost everywhere. While the merger of law and equity is usually
portrayed as a rationalisation of civil procedure, for Horwitz, it
represents the final and complete emasculation of equity as an independent
source of legal standards.[16]

As the law moved increasingly to recognise the generality of the
binding nature of contracts, they began to be seen as being about
promises, wills and intentions and not about particular relationships and
particular transactions. The rationalisation of the common law was
influenced by a new legal literature looking for legal principles based on
rational first principles. Further, there was a particularly close
relationship between law, economics and the social sciences in the first
40 years of the nineteenth century. The economic ideas that influenced the
development of the common law were those of the classical economists
between 1776 and 1870. While they assumed that the law must provide for
the enforcement of contract, they gave little thought to why the
enforcement of contracts was not itself a form of government
intervention.[17]

Laissez-faire principles might well have had
more influence on judges—and judge-made law—than on the other organs of
the State. Atiyah makes much of the emphasis on principle in Victorian
life and on its tendency to become more absolute.[18] The rise of formalism in the law, particularly in the United
States, played a role in this attitude. This formalism—the attempt to
place the law under the rubric of science—was a further development of the
rationalism noted earlier. It involved a belief that all law was based on
abstract legal doctrines and principles, which could be deduced from
precedents, and that there was only one correct way of deciding a case.
The formalists aspired to create formal general theories that would
provide uniformity, certainty and predicability in legal arrangements and
which would distinguish sharply between law and morals.[19]

This formalism served to reinforce the recently developed law of
contract by giving the impression that the principles of the law of
contract were inexorable deductions drawn from neutral principles. Within
this framework, it was the market that supplied the so-called neutral
principles, free from all political influence. This attempt to separate
law from politics has been a central aspiration of the American legal
profession in particular.[20] It served the interests of the legal profession to represent
the law as an objective, neutral, apolitical and scientific system. This
encouraged a search for fixed principles that would govern a large number
of cases without too close an inquiry into the facts. As a consequence,
every law not fitting the pattern of the free market was defined simply as
being outside the law of contract, as some other exceptional body of
rules: company law, factory legislation, building laws, sanitary laws and
so on. Such statutes were excluded from the emerging conceptual scheme of
a general law of contract based on free-market principles—the classical
theory of contract. Nevertheless, Atiyah cautions that legal writers, in
commenting on the influence of caveat emptor and
laissez-faire, attribute a much greater significance
to particular legal cases than is warranted by the practice of the courts
more generally. Nevertheless, the effect of these changes in values was to
reshape the legal system to the benefit of business and to the detriment
of less powerful groups. The selection of ‘leading cases’ and the
dismissal of the ‘anomalous’ were clearly influenced by the ideological
commitments of the system builders.

Ironically, while the nineteenth century was the very heyday of
sanctity of contract and of laissez-faire, it was
also the period when Britain was creating its modern machinery of
government. Despite the widespread support for free markets, the role of
government and of government regulation expanded greatly. Atiyah comments
that one of the main inhibitors of such government regulation had been
ignorance of the social evils associated with rapid population growth,
industrialisation and urbanisation, and of how to deal with them.[21] The growth of a professional bureaucracy—and the activities
of royal commissioners and parliamentary select committees—overcame this
ignorance and led to much legislative and regulatory activity. Many of the
participants—who started as disciples of Smith and Ricardo, and as firm
believers in individualism and self-reliance—were converted by their
inquiries into zealous public servants demanding more legislation, better
enforcement and more administrative staff.

This enormous change in the character and quantity of legislation
had a profound impact on the very idea of a contract-based society. With
the growth in increasingly sophisticated legislative activity, the courts
abandoned overt law-making activity. Atiyah argues, therefore, that by
1870, the influence of individualism had largely broken down, and had been
replaced by a different order in which control, regulation, licensing and
institutional arrangements had become the dominant mode of social
organisation.

Atiyah also qualified his account of the dominance of the doctrine
of freedom of contract by suggesting that English judges were stronger in
doing justice in a pragmatic fashion than in providing theoretical
justifications for their decisions. In addition, the weight of earlier
tradition was influential in particular cases. As a result,
laissez-faire and the doctrine of freedom of contract
had a much greater influence on contract law in the United States than in
England. Gilmore attributes this to the influence of ‘the great
systems-builders’ seeking to develop self-contained and logically
consistent systems of rules and doctrines.[22] Gilmore also speculates that the Puritan ethic was somehow
involved, noting the moral fervour with which judges insisted on the
performance of contractual obligations. For Horwitz,[23] nineteenth-century US judges professed a contractual
ideology that was instrumental in promoting economic development and
laissez-faire, in being hostile to legislative or
administrative regulation. Moreover, the idea of property as a
pre-political Lockean natural right—not created by law—remained at the
centre of American legal thought.[24]

Under this influence, the US Supreme Court in 1905[25] elevated the principle of freedom of contract to the level
of a sacred constitutional principle. In the common law in England,
however, the tide was about to turn. Even in the United States, the
dominance of the doctrine of freedom of contract was short-lived. The US
Supreme Court decision of 1905 provoked a progressive reaction and
fundamental attacks on this form of legal thought. With these attacks came
a breakdown in these absolute concepts of property and contract.

In England, the idea of caveat emptor did not
long survive the growth in consumption of manufactured goods and the
reality that people did rely on their suppliers when it came to the
quality of the goods they supplied. For example, in Piggott v.
Stratton in 1859, Lord Campbell and the Lords Justice of Appeal
ruled that ‘the business of life could not be conducted if it were
required that men should anticipate and expressly guard against the wily
devices to which the deceitful may resort’.[26]

From the 1860s onwards, the English courts started to limit the
application of the principle of caveat emptor.
Consequently, some inquiry by the courts into the facts was needed from
this date onwards. In 1884, in Foakes v. Beer, the
House of Lords started to move back towards the idea of fairness in an
exchange and away from the idea that a bare agreement was always binding.
At the same time, the idea of freedom of contract was itself subject to
increasing political challenge, particularly with the expansion in
franchise. This involved a significant shift in political thinking—a shift
that occurred in England and the United States. For example, in the 1880s,
George Bernard Shaw opposed the appeal to free contract, free competition,
free trade and laissez-faire against the regulatory
activities of the State.[27]

Similarly, philosopher T. H. Green set out to challenge the primacy
of freedom of contract in his Liberal Legislation and Freedom of
Contract: ‘To uphold the sanctity of contracts is doubtless a
prime business of government, but it is no less its business to provide
against contracts being made, which from the helplessness of one of the
parties to them, instead of being a security for freedom becomes an
instrument of disguised oppression.’[28]

Joseph Chamberlain in 1885 also criticised the faith that had been
placed in freedom of contract for the best part of the nineteenth
century:

The great problem of our civilisation is still
unresolved. We have to account for and to grapple with the mass of
misery and destitution in our midst, co-existent as it is with the
evidence of abundant wealth and teeming prosperity. It is a problem
which some men would set aside by reference to the eternal laws of
supply and demand, to the necessity of freedom of contract, and to the
sanctity of every private right of property. But gentlemen, these
phrases are the convenient cant of selfish wealth.[29]

Increasingly, the common law and legislation interfered with that
freedom of contract and with the principle of caveat
emptor. The effect was to narrow significantly the field of
activity over which freedom of contract and contract law held sway. This
change is perhaps marked most clearly by the passage in England in 1893 of
the Sale of Goods Act, dealing with such matters as
title, quiet possession, freedom from encumbrances, correspondence with
description, merchantable quality, fitness for purpose and sales by
sample. This legislation was adopted virtually unchanged by every
Australian state and territory.[30]

It is clear, therefore, that the idea of freedom of contract as an
absolute ideal gained credibility and influence in the nineteenth century
but was eclipsed by the end of the century as the practical consequences
of reliance on this principle began to be realised and began to offend the
sense of justice of the bulk of the population.

Surely it is now clear that property and contract are not natural
rights but social and legal artefacts, or even ‘techniques’. Atiyah argues
that there is much about the modern world that suggests an affinity with
some of the older traditions and suggests that, at least in England, the
law is returning to these traditions. This is a theme that arose in
Chapter 4 with Toulmin’s suggestion that there is a need to return to the
humanism characterised by Erasmus and away from the dogmatism of the
Enlightenment.[31]